Here’s an example why to keep an open mind about filing under Chapter 7 vs. Chapter 13. Slightly different facts can make all the difference.

Last time we introduced some of the main differences between Chapter 7 and Chapter 13. We suggested that you learn about them but also keep an open mind when you go see a bankruptcy lawyer. At that meeting you will always hear about advantages and disadvantages of each option you didn’t know about. Often you hear for the first time about certain tools that can really help you. So you may end up going a different route than you expected.

Here are two versions of an example that illustrates this well.

An Example Using Chapter 7

Assume the following. Three months after losing a job you get another one at a somewhat lower salary than before. Over the years before you’d accrued $50,000 in credit card debt and medical bills on which you’d started falling behind. While you weren’t working you fell even further behind and one medical collector has just sued you. You’re now also 2 months behind on your $1,500 monthly home mortgage payments ($3,000). For personal and financial reasons you really want to keep your home.

A Chapter 7 “straight bankruptcy” case would very likely discharge (legally write off) all of your non-mortgage debts. In this example that would enable you—with a short-term tight but realistic budget and a temporary part-time job—to pay one and a half mortgage payments each month ($1,500 + $750) for four months to catch up. Your lawyer contacts your mortgage lender which agrees to that catch-up schedule.

So you decide to file a Chapter 7 case as a means to get current on your mortgage, and to get a fresh financial start. About 4 months after filing the case you’d have both.

An Example Using Chapter 13

Change the facts this time so that now you’re 8 months behind ($12,000) on your mortgage instead of just 2. Also your budget is tighter and no part-time job is available. So without paying any of your credit card and medical debts you can only afford $300 per month. At that rate you would need 40 months to catch up on your $12,000 mortgage arrearage. Your lender says that’s totally unacceptable.

A Chapter 13 “adjustment of debts” would give you up to 5 years to catch up on the mortgage. The mortgage lender would generally have to go along with this—be unable to foreclose or take other collection action—as long as you consistently stuck with your plan. You would have to pay all you could afford to every month for at least 3 years. You’d have to pay for 5 years if your income was too high. Either way the money would first go to catch up the mortgage. (This would be after or simultaneously while you were paying your lawyer fees and trustee fees). You would usually only pay the other debts—the credit cards and medical debts) if and to the extent you had money left over during the 3-to-5-year payments period.

Because you really want to keep your home you decide to file a Chapter 13 case. You don’t mind its length because that’s to your advantage—more time to catch up on the mortgage so that you can reasonably afford to do so. About 4 years after filing the case you finish catching up, the remaining debts are forever discharged, and you have a fresh financial start. You owe nothing except the fully-caught up mortgage. It took a lot longer than a Chapter 7 case but saving your home made it well worthwhile.

Conclusion

In both of these scenarios you were behind on a mortgage on a home you wanted to keep. In the first scenario the tools of Chapter 7 enabled you to meet your goal. In the second you needed the stronger tools of Chapter 13.

This is a simplistic example. Even here this illustration show that it’s important to keep an open mind about which Chapter is better for you. Real life is usually much more complicated. That’s all the more reason to get informed about your options and then be receptive about your lawyer’s legal advice about them.